Digital transformation and accelerated settlement

Published by: Michael McClain, General Manager of Equity Clearing and DTC Settlement Services, DTCC Oct 2020

A fundamental transformation of how things are done is underway across every sector of the economy, with digital transformation leading to and creating significant changes to business as usual.

In the securities industry, the Covid-19 pandemic is accelerating a transformation that has already been in progress for several years, as many firms have been actively exploring new approaches to further reduce costs and risk.

For instance, the pandemic has reinforced the criticality of increasing automation and digitalisation, eliminating manual processes in favour of digital alternatives that can increase the speed of processing and lower costs.

More specifically, the digitalisation of securities processing has been an ongoing focus across the globe, including in the US, and it has intensified in recent years with the emergence of distributed ledger technology (DLT). DTCC has been at the forefront of the exploration and experimentation of DLT for some time because we see the promise of the technology. At the same time, our experience also reminds us of its current limitations. One project that we  are currently exploring, known as Project Ion, is based on the concept of an alternative settlement system that is digitally focused and able to offer the benefits of accelerated settlement, while retaining the advantages of central netting and preventing fragmentation of the US clearing and settlement ecosystem.

To begin to evaluate the potential of this type of solution, we developed a working proof of concept (POC) designed to help clients visualise key clearance and settlement workflows and novel implementations as part of that digital transformation. While efforts to achieve T+2 (trade date plus two business days) in the US and settlement optimisation were possible using existing technology, the Project Ion POC explored ways that DLT could create new opportunities to reimagine post-trade processing. With the POC now complete, we are identifying the best way forward: outlining the optimal solution that brings the broadest industry benefits, gathering industry input to identify potential barriers to adoption, and exploring the feasibility of moving towards accelerated settlement, all the while employing a modern platform underpinned by DTCC’s proven infrastructure.

Accelerated Settlement as a driver

Headlines around the announcement of Project ION largely focused on the DLT elements. The industry focus, however, remains where it has been for some time: on achieving margin relief and reducing the cost of settlement. After all, the easiest way to provide margin relief is to shorten the settlement cycle. In support of this, DTCC is working to deliver a prototype settlement system that provides a T+1 environment for the industry.

In 2017, when the U.S. accelerated the settlement cycle to T+2 – a highly complex and time-consuming initiative – we learned that the biggest challenge was not technology but process and procedure. The resulting benefits of accelerated settlement – reduced market risk and significantly lower margin requirements – prompted almost immediate discussions among firms on how to achieve additional value through initiatives like settlement optimisation, including the intraday settlement of money and securities. We’re currently working on a modernisation effort that will take these ideas into consideration with an aim to materially reduce both market and operational risk while making it safer and cheaper to participate in markets.

Project Ion next steps

Developing a new accelerated settlement system could fundamentally change current market structure. As the evolution of settlement converges with the fintech revolution, we are actively exploring ways to advance a shorter settlement cycle to further enhance the settlement process in the public markets.

Building industry consensus around a T+1 settlement cycle will be a key step, and early indications suggest there is an appetite for such a move in the industry, and the resulting benefits of cost savings and lower risk.